FED:Henry downplays bank concentration

Treasury secretary Ken Henry has played down the idea that bigger rises in home loan rates than the central bank's cash rate increases are the result of less competition between lenders.

He also warned against interest rate controls, saying they would have "unsavoury distributional consequences".

Speaking at a banking and finance conference in Sydney, Dr Henry said that compared to the period before the global financial crisis, there had been less reliance on short-term wholesale funding and securitised debt and more use of deposits and longer-term wholesale funding.

This led to an increase in competition between banks for deposits, particularly for term deposits, since mid-2008.

"It has occurred notwithstanding increased concentration (a small number of players having a greater share of the market) in the banking sector post-crisis," he said.

Dr Henry cited Reserve Bank of Australia estimates that the average cost of major bank's new deposits is now only a little under the cash rate.

Ahead of the GFC, the cost of deposits was around 150 basis points (1.5 percentage points) below the cash rate.

"While net savers, such as self-funded retirees, are benefiting from increased returns on deposits, higher deposit interest rates have contributed to upward pressure on lending rates relative to the cash rate," he said.

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The impact of such developments, as well as the level of competition, were reflected in banks’ net interest margin.

"Where competition is increasing, net interest margins will fall, all else being equal," he said.

The net interest margins of the big banks had been just under 6 percentage points in the mid-1980s, but had fallen to around 2.25 per cent ahead of the GFC.

"The sustained downward pressure on the net interest margin is one of the clearest, long-term economy-wide benefits of the deregulation of the Australian financial system, including the removal in 1986 of the regulated interest rate cap on housing loans provided by the banking sector," Dr Henry said.

And the main beneficiaries had been households and businesses.

Since the GFC, the net interest margin for big banks had widened to 2.5 per cent.

"It is too early to judge whether this post-GFC widening can be explained fully by a lessening of competition, but it does provide a case for close examination of the factors affecting competition," he said.

"The re-pricing of home loans and other lending products could simply be a response to changes in funding costs and a re-assessment of risk."

But while he was equivocal on the effect greater concentration in the sector may have had for the spread between funding costs and lending rates, he showed no sign of doubt on the issue of controls on interest rates.

He noted RBA governor Glenn Stevens had publicly stated that the changes in spreads would be taken into account when monetary policy decisions were made.

"Thus, calls for the government to regulate lending rates on particular bank products are quite peculiar," Dr Henry said.

"The only certain outcome of any such regulatory intervention would be credit rationing, with some households and businesses finding it impossible to access credit on reasonable terms.

"Typically, such interventions have unsavoury distributional consequences – for obvious reasons," he said, implying the better-off would have first bite at the cherry when it came to borrowing and the less well-off would have to resort to more expensive lenders.